We are pleased to send this Newsletter to you before summer is fully upon us. The first article is a discussion of the fiduciary standard, something that has gotten increasing attention in the news media. It is an important issue to many investors, and just how and where this fiduciary principle will be applied is uncertain. The next article is on the market prospects in an intermediate time frame, and that is followed by a longer article on “real” rates of return. Real return is the increase in value reported in the newspaper minus inflation. This article looks at why real return is what investors should actually focus on for evaluating their long term investments.

We conclude with a report from Susan on a conference she recently attended in Chicago on socially responsible investing and how O&A expects to get increasingly involved in this field. As always, Office Matters is the finale.

David W. Otto, Editor



Definition: “a fiduciary is a person or organization that owes to another the duties of good faith and trust….It also involves being bound ethically to act in the other's best interests” (from Investopedia). A fiduciary agrees to put clients’ interests before the interests of the fiduciary.

During the past few years the matter of the fiduciary standard has gotten the attention of the press. The Obama administration, and specifically the Department of Labor (DOL), developed new requirements for applying this standard to all U.S. retirement accounts.

While the government finalized the regulations and set a date of April 10, 2017, for implementation, they actually gave organizations about a year to provide time so they could decide how they were going to comply with the new regulations and begin informing customers about new procedures and pricing. Recently the Trump administration delayed this action for 60 days. It is not clear if the new administration will move ahead with the proposed standards, modify them, or repeal them altogether.

Because Otto & Associates has stated from the day we opened our doors in 1991 that we are fiduciaries, the changes required of us are almost exclusively internal, necessitating mostly just documentation as to how we follow the fiduciary standard. Thus clients have not received any notice of changes from us. However, other organizations have made extensive plans, and many have announced how they intend to implement changes to comply with the new regulations. We have specifically seen documents from Edward Jones Investments and the investment bank of J.P. Morgan.

The concept of broadening fiduciary responsibility and transparency has arisen because the ways of handling the money of private investors has changed radically in recent years. From at least the early 1900s, the investment process was built on the commission system. Some of you will remember seeing slips reporting the purchase or sale of a stock that listed not only the price and the number of shares traded, but also the commission charged by the brokerage firm for doing their work. This system seemed effective, was transparent, and continues today in a limited and modified way. Then, the customer knew what he was paying for the service.

As transparency has lessened, problems have cropped up. A good example is in mutual funds, for which there is often no fee for buying and selling the fund, but there is a fund management fee that may be difficult to discern. While a fee to manage a fund is legitimate, these fees can range from.05% to well over 2%. The new regulations do not limit the amount that investment professionals can charge, but they do require that the charges be clear and obvious.

On March 3, 2017, Ron Lieber, a NY Times columnist, wrote an article that received considerable attention on the matter of investment costs. The article focused on 403(b) retirement plans offered to public school teachers. [403(b) plans are for employees of nonprofit organizations and are similar to the 401(k)s available to employees of for profit corporations.] Lieber pointed out how these teacher plans often come “with high fees and problematic investments.”

The first unsettling issue that Lieber notes is that these plans often offer unknown mutual funds. Researching them was difficult for him, which suggests this could be an impossible task for most teachers not trained in the field.

Lieber then turns to expenses, which he was unable to verify for most of the 6 – 8 companies he contacted. The one company that was willing to discuss the matter of fees said the cost was 1.81% or higher. The author believes many mutual funds in these retirement programs charge fees in excess of 2.0%, which, of course, diminishes the income the teacher will receive in retirement.

Many in the investment community have assumed that if the new fiduciary regulations proposed by the Obama administration are implemented and seem to work well, the SEC and other regulatory organizations will, over time, adopt rules for traditional, taxable investment accounts that are similar to the new rules for tax-deferred accounts.

Although the creativity of some investment companies in setting fees is not to be underestimated, it is likely that the new regulations for retirement accounts would be useful if they were enacted. If they are completely repealed, some salaried employees such as teachers will have their retirement savings reduced by excessive expenses. We hope that after years of getting close to implementation, the proposed regulations, or ones very similar to them, will be adopted.



That the market is unpredictable has never been more obvious. Everyone “knew” that if Donald Trump was elected President, the market would go down, which it did for a few hours and then reversed itself.

And another thing we also thought we “knew” was that the market did well when things were predictable and stable. Oddly, the U.S. stock market has increased 12% since the election of a very unpredictable leader.

Investors are understandably concerned about today’s markets. The current bull market began more than eight years ago and the U.S. stock market has increased around 250% during that time. While eight years is a reasonably long time for the market to continue an upward trend, there have certainly been longer periods of rising prices, as the 1987 – 2000 bull market reminds us. During that 13 year period, the market went up close to 600%, more than twice what the market has increased during the present period. This comparison can be viewed as reassuring.

As well, it is unlikely that we are on the precipice of an imminent downturn in the market. Various metrics, including the price earnings ratio – a measure of valuation – are not yet reaching the outer limits of a normal range in an investment cycle. And, valuations overseas are lower than in the U.S., suggesting that it could be a good time to invest more money outside the U.S.

Our response to today’s conditions is to look for ways to be more conservative and to veer away where we can from the mainline U.S. stock market. Our strategies include investing internationally and in higher dividend paying stocks as well as private placement real estate, when these are possible and warranted. And we keep in mind that the angst of the present environment will eventually change, which is why we continue to focus primarily on long-term investing and diversification.



A client recently asked, “What ever happened to the stock market returning 10% or more for long periods of time?” It is a good question, and in answering it, it is helpful to explain nominal and real rates of return. The above 10% reference is nominal.

At O&A, a nominal rate of return is what we normally refer to when we discuss investment returns. That term, “nominal rate” means that it is the investment return rate which does not take inflation into account. An illustration will show how the nominal rate differs from a real rate of return. If an investor makes a 10% (nominal) return one year, and that year inflation is 10%, it is clear that the investor is no further ahead. A year later she can buy only the same goods and services she bought the year before. In this case, we would say her nominal return is 10%, but her real return is 0%.

To understand investments over the long run, the real question is: can I buy more goods and services with my money? Examining real return is a way to quantify the answer to that question.

Investment professionals over the years have seemed to agree that a real rate of return of 4% is a reasonable target. It may be possible to hit a higher target with aggressive, professional management, but for the average investor a 4% real return is respectable. In view of this, how have the markets done during the recent ten year (2007 – 2016) period in terms of real return?

To do this calculation we must make an assumption about the stock/bond ratio. As most readers of this Newsletter will understand, O&A (and virtually all investment professionals) recommends adding bonds to a portfolio. While over the long haul bonds underperform stocks, they are an essential counterbalance: when the stock market goes down, historically the bond market has gone up. Thus, bonds help to modulate the dramatic swings of the stock market. For the purposes of this article we will assume the investor places 70% of her assets in stocks and 30% in bonds.

The stock market return for 2007 – 2016 was 7.2% while bonds returned 1.2% during the same period. The blended index during this period (70% stocks and 30% bonds) was 5.4%. Remember, however, all of these numbers are nominal returns.

In order to understand real returns we need to also calculate the impact of inflation for this period. While historically inflation has been at 3.0% (since 1926), the past 10 years have seen inflation of only 1.5%. Knowing this allows us to do the calculation for the real return during the past 10 years. The real return (5.4% minus 1.5%) was 3.9%, very close to the target of 4%.

So one response to the initial client question is, your real return was never 10% but your assumption that it was is a very common one to make, and it mixes apples (nominal returns) with oranges (real returns).

But, even talking just about real returns, it is true that the recent 10 years could be seen as disappointing. During that time the stock market experienced 18 months (from the end of 2007 through the beginning of 2009) when it lost more than 50%. Were we to eliminate that period and look only at the eight years from April, 2009 through March 2017, the blended nominal return would be 13.1% and the real return (after inflation of 1.6%) would be 11.5%. While the 10 year real return may be a bit below average, that 11.5% figure is not a sustainable figure. However, these two figures remind us that the market fluctuates significantly over intermediate time periods, and this fluctuation influences our longer term perceptions.

In brief, the 10% return our client referred to above 1) forgot the fact that most investment portfolios include bond investments which will lower long term returns, and 2) may have conflated real and nominal, when a real rate of return is the more useful number.

If you are a client of O&A, we are happy to discuss your real return numbers with you.



It has been a long-standing belief by many that if you wanted to choose investments that were “socially responsible,” you had to give up some return. This was because socially responsible funds often had high expenses and were invested in areas that were not considered mainstream and therefore might underperform. It now appears that this perception is changing and old views of SRI are giving way to new realities. The previously perceived “performance gap” between returns from SRI and traditional investments seems to have been eliminated, and SRI investments are now able to keep up with, and sometimes even exceed, conventional market benchmarks. Investors now have the opportunity to align their investments with their values and receive competitive returns. In short, it appears that investors can now do well by doing good. Otto & Associates is becoming more interested in this growing field. In an effort to learn more about the possibilities, Susan spent three days in Chicago at a US SIF conference. From its literature, US SIF is The Forum for Sustainable and Responsible Investment, and “is the leading voice advancing sustainable, responsible, and impact investing across all asset classes.” Its mission is “to rapidly shift investment practices toward sustainability, focusing on long-term investment and the generation of positive social and environmental impacts.” There are many terms that the broader investment industry uses to categorize “social” investing. SRI has been widely used for some time, and today ESG (Environment, Social, and Governance) is often heard as well. “Impact Investing” also gets tossed around as does “Exclusion Investing” and “Social Justice Investing.” All of these terms lead to different investment strategies that have varying, but often related, goals and impacts. Some questions to consider when thinking about investing in a socially responsible way include:

• What do I want to avoid investing in? (Negative screening) Coal? Fossil fuel? Tobacco? Guns? Nuclear weapons?
• What impact do I want my investments to have? Investing in companies that manage forestlands for financial, ecological, and social returns, for example.
• How do I know if my investments have achieved desired goals, in addition to making money?
• What do I want from shareholder advocacy? Is it important to have women on the Board of Directors?

Investors may have many different reasons for choosing SRIs or for selecting one SRI investment over another. We will continue to research the opportunities that are available and evaluate fully the potential for a good return, the possible risks involved, and the potential of an SRI investment having a positive impact in the world. We are happy to discuss our findings with you and would welcome your views on putting SRIs into your portfolio.



It has been an active time for the staff of O&A. In addition to the conference Susan went to, Deborah again attended the Financial Planning Association of NY Spring Forum. There are always a number of outstanding speakers and panelists. She brought back some useful perspectives on the markets and the economy. The conference also provided her with confirmation of our current thinking on allocation and investment strategy.

In addition all five of us have had or are about to embark on some interesting vacation travel. If you are interested, we are all happy to talk about it. Deborah ventured the furthest, to visit her son in China.

The phone in Katonah [(914) 232-5379] has been linked directly with Norwich for some time. While the VT phone number is still active, it is probably safest for clients to call Katonah to reach any one of us. If no one is available in either office, a message left on this answering machine will reach us no matter what office we are in.

David and Susan have regularized the time that they are at the Katonah office. While there will be exceptions, they now normally come to Katonah the first week of every month, leaving Norwich, VT, on Monday afternoon and working in Katonah Tuesday, Wednesday, and until early afternoon on Thursday. During months with a national holiday in the first week, they will be in Katonah the second week. Neither comes to Katonah in August when they are both on a working vacation in Maine. Both maintain regular, reduced hours in the Maine office. If you are ever near Boothbay Harbor during that month, we are happy to schedule an appointment. This year that “month” will stretch from about July 20 to September 1.

All of us wish you a relaxed and refreshing summer.